All eyes on the Federal Reserve today – 16th December 2015

At 7pm this evening, 80% of investors and economists expect the US Federal Reserve will announce its first interest rate increase since 10th May 2006. Expectations for the rate hike have been fuelled by the Fed chairperson, Janet Yellen, and her colleagues so failure to deliver the hike would destroy the credibility of any future guidance it might offer.

So, assuming that the rate increase is a done deal and that it will be followed by further hikes, what will be the impact on the US Dollar? The assumption is that it will strengthen but history provides some interesting food for thought. Between June 2004 and June 2006, US interest rates rose from 2.0% to 5.25%; in the same period the US Dollar weakened by 2% against Sterling and by 5% against the Euro. So, higher US interest rates are therefore not necessarily a guarantee of a stronger US Dollar.

However, the anticipation of higher interest rates has been a big factor in the US Dollar’s strong performance over the last couple of years. Back in June 2013 the then Fed chairperson, Ben Bernanke, triggered what became known as the “taper tantrum” when he warned that quantitative easing would be coming to an end at some point. In October the following year the Fed made its last asset purchase and subsequently investors have been waiting for it to raise interest rates. Since June 2013 the US Dollar has strengthened by 3% against Sterling and by 19% against the Euro.

There is an old market saying that says traders should “buy the rumour, sell the fact” so since June last year investors have been buying the rumour of higher US interest rates quite aggressively, taking the dollar 11% higher against Sterling and 21% higher against the Euro. Will a 0.25% increase today spur them to buy more dollars? Time will tell.

No surprises were to be found among yesterday’s data; Swedish interest rates did not change and inflation was slightly higher on the month in the UK and the US. Euroland inflation comes out today, along with the UK employment data.

But nobody cares about those; all eyes are on the Fed.